Recent positives have been priced in, which may leave little upside the rest of the year without a boost in growth and earnings.

Stocks got off to a strong start in January and February with the S&P 500 gaining a historic 12%. The market, however, has slumped since the start of March. While investors may still see plenty of positives to stay in stocks, I believe the downside risks are increasing.

My recommendation is for investors to orient their equity portfolios toward high-quality stocks that aren’t overpriced. I also suggest favoring actively managed funds, which may be better able to navigate the potential rise in volatility than passive index funds.

Below are three reasons why the stock market may be riskier right now than it seems:

Economic data is mixed. Employment is still strong and the service sector is healthy. Yet the consensus of analyst expectations for first-quarter gross domestic product growth is now below 1%. That’s down from 3.4% GDP growth in the third quarter of 2018 and the government’s current estimate of 2.6% for last year’s fourth quarter. Recent economic reports show corporate capital spending is falling. Weaker home and auto sales are further evidence we are in the later stages of the current economic cycle, something I’ve been saying for a while now.

China’s economic recovery may not provide the boost expected. Although the U.S. and China are nearing a trade deal and China is actively stimulating its economy (one reason U.S. markets rallied at the start of the year), I’m not confident that an economic rebound in China will translate to growth in the U.S. I think it may lead to a consumer recovery in China that has minimal impact on the U.S. economy and markets.

Stocks are not cheap while corporate profit growth is slowing.Earnings growth peaked in the third quarter of last year and the consensus of stock analysts’ estimates for 2019 S&P 500 earnings growth has fallen to 3% from 10% last summer. Morgan Stanley Chief Equity Strategist Mike Wilson expects only 1% gain in year-over-year earnings. Yet, based on a forward price-earnings ratio above 16, stocks are now valued at the same level as last year’s third quarter. That suggests that stocks are fully priced and could weaken on negative news.

It’s normal for stocks to take a breather after such a strong start to the year. However, I believe the market backdrop is more perilous than it seems. For stocks to climb from here, we will likely need to see stronger economic growth and better corporate earnings, and I’m not confident that either will materialize.

Yields are subject to change with economic conditions. Yield is only one factor that should be considered when making an investment decision.

Equity securities may fluctuate in response to news on companies, industries, market conditions and general economic environment.

Bonds are subject to interest rate risk. When interest rates rise, bond prices fall; generally the longer a bond's maturity, the more sensitive it is to this risk. Bonds may also be subject to call risk, which is the risk that the issuer will redeem the debt at its option, fully or partially, before the scheduled maturity date. The market value of debt instruments may fluctuate, and proceeds from sales prior to maturity may be more or less than the amount originally invested or the maturity value due to changes in market conditions or changes in the credit quality of the issuer. Bonds are subject to the credit risk of the issuer. This is the risk that the issuer might be unable to make interest and/or principal payments on a timely basis. Bonds are also subject to reinvestment risk, which is the risk that principal and/or interest payments from a given investment may be reinvested at a lower interest rate.

Asset allocation and diversification do not assure a profit or protect against loss in declining financial markets.

Rebalancing does not protect against a loss in declining financial markets. There may be a potential tax implication with a rebalancing strategy. Investors should consult with their tax advisor before implementing such a strategy.

Because of their narrow focus, sector investments tend to be more volatile than investments that diversify across many sectors and companies. Technology stocks may be especially volatile.

International investing entails greater risk, as well as greater potential rewards compared to U.S. investing. These risks include political and economic uncertainties of foreign countries as well as the risk of currency fluctuations. These risks are magnified in countries with emerging markets, since these countries may have relatively unstable governments and less established markets and economies.

Investing in foreign emerging markets entails greater risks than those normally associated with domestic markets, such as political, currency, economic and market risks.

Investing in commodities entails significant risks. Commodity prices may be affected by a variety of factors at any time, including but not limited to, (i) changes in supply and demand relationships, (ii) governmental programs and policies, (iii) national and international political and economic events, war and terrorist events, (iv) changes in interest and exchange rates, (v) trading activities in commodities and related contracts, (vi) pestilence, technological change and weather, and (vii) the price volatility of a commodity. In addition, the commodities markets are subject to temporary distortions or other disruptions due to various factors, including lack of liquidity, participation of speculators and government intervention.

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